Federal law of 2011 taxes estates exceeding $1 million for an individual or $2 million for a married couple up to 55%. Any donation to an individual over $13,000 in a given year can also be taxed up to 45%, except for a lifetime exclusion of $1 million per donor. For anyone concerned about these tax consequences, intra-family loans can be used for estate planning purposes, since any gains made will be treated as exempt from all inheritance and gift taxes.
During our preliminary consultation with all our estate planning clients, our firm will determine if our client is subject to estate tax and if he can use intra-family loans to reduce the value of his estate. The appreciation of any investment made with the loan accrues outside of our client’s estate, so long as it exceeds the IRS rate. Intra-family loan rates have fallen 53% since 2008. With interest rates low and most asset values - such as stocks and real estate – depressed, it is much more likely that any investment purchased with an intra-family loan in 2010 will appreciate more than the cost of the loan.
The rate for a three-year intra-family loan issued in January 2010 is currently 0.57%. The rate is 2.45% for a loan of three to nine years and 4.11% for a loan of nine years or more. These rates compare favorably with an average rate of 10.55% for a personal bank loan and 12.51% for a cash loan.
Parents can lend their children money to buy a business, and the children can repay the loan using the profits from the business. Any appreciation or future income from the business beyond the loan amount is then considered part of the children’s estate and the parents’ estate remains protected. In addition, any amount above the interest rate of 1.65 will be passed on to the children free of inheritance and gift tax.
Family members should be aware that loans must be repaid in full with interest at the rate specified by the IRS. If the borrower does not repay, this can be considered a gift subject to gift tax.